Steel City Capital recently released its Q3 2020 Investor Letter, a copy of which you can download here. During the third quarter of 2020, the fund returned 1.6% net of fees, while the S&P 500 Index was up 8.5%. You should check out Steel City Capital’s top 5 stock picks for investors to buy right now, which could be the biggest winners of this year.
In the said letter, Steel City Capital highlighted a few stocks and Liberated Syndication Inc. (NYSE:LSYN) is one of them. Liberated Syndication Inc. (NYSE:LSYN) is a web hosting company. Year-to-date, Liberated Syndication Inc. (NYSE:LSYN) stock gained 12.1% and on October 26th it had a closing price of $3.70. Here is what Steel City Capital said:
“Liberated Syndication (Long): In the Partnership’s 2Q’20 letter I made a pointed call for LSYN’s Chris Spencer to resign. Dreams do come true! On August 5, the company announced Spencer stepped down as CEO and from the company’s Board. He agreed to remain on as a “Senior Advisor” to the company. His departure is a major victory for shareholders. Not only was Spencer’s tenure characterized by a series of strategic and financial missteps, his very presence represented a scarlet letter that almost certainly caused a number of investors to avoid the stock. With Spencer and his “partner in crime,” former CFO John Busshaus, now gone, a significant impediment to value creation has been removed2 .
While the headline numbers might not suggest it, Spencer’s departure was done at a very reasonable cost to the company. First, the company agreed to repurchase from Spencer 1,353,795 shares at $3.00 for a total cost of $4.06 million. These shares comprised 1,125,000 vested incentive compensation shares and 228,795 previously owned shares. This was savvy capital allocation on the part of the Board. If one believes, as I do, that LSYN’s intrinsic value is multiples higher than its current level, then shrinking the company’s outstanding share count by almost 5% at a price of $3.00 is a great deal. The value accretion is even higher when taking into account the tranche of unvested performance shares held by various insiders that will likely expire by the end of this year.
In addition to the share repurchase, Spencer is eligible for $1.175 million in cash payments through early 2023 and also had 775,000 of unvested shares immediately vest when he signed his separation agreement. At a market price of $3.00 per share, the newly vested shares have a value of $2.325 million. The combined cash and share value of $3.5 million was a small price to pay to make Spencer “disappear” and I fully expect it will be recouped in market value creation going forward.
The company appears to be back on a regular reporting schedule following the filing of its second quarter 10-Q. Revenue was up 11% supported by 10.6% growth at LSYN and 12.7% growth at Pair. The Pair result was a welcome surprise given the mid-20% declines that it posted in 4Q’19 and 1Q’20. OpEx was generally flat y/y, although there were some puts and takes. SG&A came down meaningfully due to the absence of certain management bonus accruals and expenses related to the proxy fight with Camac, but this was largely offset by increases in selling/marketing, technology, and customer support. At this stage, the spending increase in these areas isn’t a concern to me. The company will soon roll out Libsyn5, which almost certainly accounts for some of the increase in technology spend. Similarly, considering the company’s incredibly conservative net cash position, I’ve long advocated for an uptick in marketing spend to attract more customers to the platform. Management and the Board have indicated their strategic review determined the best way to create shareholder value is to focus on accelerating growth across the platform. I believe this is a precursor to an eventual exit, and all else being equal, higher growth will garner a much higher valuation. Said another way – I’m happy to finally see management reinvest in the business.
Unfortunately, 2Q’20 results weren’t all rainbow and butterflies. The print included a $1.2 million charge for “uncertain tax positions” related to an ongoing IRS audit covering the period from 2016 to 2018. In its 10-Q filing, LSYN said “It is reasonably possible that $1.2 million of uncertain tax positions will be recognized within the next 12 months due to our inability to respond to IRS requests related to an ongoing IRS examination.” This comes on the heels of the company’s restatement earlier in the year which was related to the manner in which the company accounted for its NOL balance. As a reminder, former CFO Busshaus has sued the company on the basis that he resigned for “good cause” and is therefore entitled to retain certain compensation, including 1,212,500 unvested shares. If he had a shred of integrity, he would drop the lawsuit considering what his incompetence has cost shareholders. In any event, the good news is the company recently hired a new CFO whose prior experience leads me to believe he has the skill-set to get LSYN’s accounting and finance operations in order.
With respect to valuation, there are multiple puzzle pieces that need to be put together. The company reported 29.3 million shares outstanding in mid-August. One must back out the 1.35 million shares repurchased from Spencer and another 3.0 million unvested performance shares that will more likely than not be forfeited by the end of this year. This puts LSYN’s share count closer to 24.9 million, which at the current share price of $3.75 implies a market cap close to $93 million. The company has $9.5 million of net cash on hand (after accounting for the purchase of Spencer’s shares), which results in a value for the operating business of $84 million. (If we want to be conservative, we can call it $88 million to account for the “Busshaus-related” income tax payable.) YTD’20 FCF has been ~$3.6MM, implying an annualized figure of $7.2MM. Valuation (net of cash) is 11.5x P/FCF, and closer to 12.2x on a “Busshaus-adjusted” basis. Either way, that’s still incredibly cheap for a capital-light business with a leadership position in a secularly growing industry.”
Our calculations showed that Liberated Syndication Inc. (NYSE:LSYN) isn’t ranked among the 30 most popular stocks among hedge funds.
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Disclosure: None. This article is originally published at Insider Monkey.